Tax Executives Institute--Internal Revenue Service Large and Mid-Size Business Division liaison meeting February 9, 2005.
II. Service/Enforcement Initiatives
Enforcement of the tax law is one of the Internal Revenue Service's three primary strategic goals. One strategy for achieving that goal is the reduction of audit cycle time, thereby improving audits and permitting an expansion of audit coverage. During the last few years, LMSB has developed several audit techniques to improve currency and enhance compliance efforts.
Approximately 18 months ago, TEI and LMSB launched the Joint Audit Planning Process, which compiles the "best practices" for conducting an audit and includes a planning and monitoring tool that lists the steps a taxpayer and audit team can take to enhance the quality and timeliness of tax examinations. A key to the initiative is the delineation of both the individual and the joint responsibilities of all participants--the taxpayer, team manager, audit team, specialists, and Counsel--thereby directing time and resources to the most important areas.
Several other innovative procedures--such as Limited Issue Focused Examination (LIFE), Pre-Filing Agreements, Fast Track Mediation and Settlement, Accelerated Issue Resolution, Advance Pricing Agreements, and Early Referral to Appeals--have sought to improve the examination process and promote currency. LIFE in particular--with its focus on the resolution of material issues--holds great promise in reducing disputes and decreasing cycle time. These procedures all share a common denominator--a collaborative effort to resolve issues at the lowest level.
TEI is proud of its partnership with LMSB and we remain committed to a collaborative approach to streamlining tax administration and obtaining currency. In response to a recent informal poll, however, several members volunteered that the quest for currency had seemingly caused their team managers to send certain complex issues to Appeals in order to meet deadlines for closing the case. Although currency is a laudable goal, it cannot come at the cost of other objectives. For example, the quest for currency should not unduly interfere with the IRS and taxpayers' ability to resolve issues at the lowest level. The agency will not achieve its goal of streamlining tax administration if the currency initiative pushes the resolution of issues from the examination team to Appeals. Such a result has the potential of overwhelming the Appeals process and prolonging the overall resolution of issues.
During the liaison meeting, we invite a discussion whether LMSB has noticed a trend toward a larger number of unagreed issues.
b. CAP Program
LMSB's Compliance Assurance Process (CAP) employs real-time issue resolution to improve overall compliance and to enhance customer service. CAP's overall objectives are to: (i) work with the taxpayer to achieve federal tax compliance; (ii) resolve all or most issues prior to the filing of a tax return; (iii) reach an acceptable level of assurance regarding the accuracy and correctness of filed tax returns; and (iv) eliminate or substantially reduce the need for a post-filing examination.
TEI is pleased that a number of its members have volunteered to participate in the CAP program. During the liaison meeting, we invite LMSB to provide an update on the progress of the new initiative.
National Taxpayer Advocate Nina Olson recently issued her 2004 Annual Report to Congress, which raises several key questions about the continuing independence of Appeals. She notes that Appeals has participated in three of the four IRS settlement initiatives for abusive tax shelters. Explaining that Appeals has historically served as a "check and balance" on IRS enforcement, Ms. Olson expressed concern that the involvement of Appeals in the settlement initiatives may impair its independence in both fact and appearance. Does the IRS anticipate making any changes in the Appeals process in light of the NTA's report?
III. Tax Administration
a. Schedule M-3:
TEI commends the IRS and Treasury Department for their collaborative approach in developing the new Schedule M-3 and revising it to minimize the burdens imposed on taxpayers. To permit taxpayers time to comply with the new requirements, the instructions provide that the filing of columns (a) and (d) of Parts II and III are optional for the first year. Although taxpayers appreciate the extra time to modify and redesign compliance systems, TEI remains concerned that the burden of providing this information outweighs its benefit. We urge the IRS and Treasury to extend the optional period for at least one year so they can analyze the first year information (including how field agents are able to use it) and reconsider whether the information in columns (a) and (d) of Parts II and III is really necessary.
b. E-Filing Mandate:.
The IRS recently issued temporary and proposed regulations mandating the electronic filing of large corporate tax returns for taxable years ending on or after December 31, 2005. TEI supports the goal of increasing the number of tax returns that are filed electronically. E-filing will give the IRS the information it needs to ensure compliance faster and without the transcription errors that may occur when data from paper returns are entered into IRS's computer system.
In TEI's view, however, the regulations can be viewed as improperly outsourcing not only the burden of compliance to the taxpayer, but also the responsibility. If the software vendors cannot provide compliant software or if the IRS's systems cannot accept the returns, the taxpayer may face extensive penalties for failure to file. Unlike the development of the Schedule M-3--where the IRS actively sought taxpayer input and worked to address concerns before the schedule was issued--this initiative was issued without consulting the constituency that will be most affected, the large corporate taxpayer community.
TEI has specific concerns about three aspects of the proposed and temporary regulations:
First, we are uncertain whether the IRS has made the case for mandatory e-filing and, more important, for issuing the guidance in the form of immediately effective temporary regulations (albeit for returns filed in 2006). Had the IRS issued proposed regulations, the process of soliciting comments not only from vendors (who will make money from the mandate) but also from taxpayers (who will have to spend it) could have been less hectic, more orderly, and in the final analysis, more helpful.
Second, although the regulations assert that the e-filing mandate will benefit taxpayers, we question whether the IRS has adequately documented and demonstrated what those benefits are. This is especially the case since the mandatory e-filing cannot help but exacerbate the burdens to corporate information reporting systems posed by the American Jobs Creation Act of 2004, the continuing demands of the Sarbanes-Oxley Act, and other resource-draining mandates. We appreciate that the IRS will benefit from e-filing, and agree that for some corporate taxpayers the mandate may represent little more than redirecting information from the printer to the Internet. For larger more sophisticated taxpayers, especially those with significant foreign operations or those contending with multiple, nonintegrated legacy IT systems, that will not be the case. Thus, for these taxpayers, mandatory e-filing (especially without a reasonable transition period) represents little more than shifting a burden from the agency to the taxpayers. It thus may be contrary to the IRS's goal of improving taxpayer service by reducing burden. What is more, the IRS has only recently been able to receive electronic Forms 1120, and although numerous small companies have successfully filed their returns electronically, a legitimate question exists whether the IRS has the capacity to receive--and effectively use--electronic returns for larger companies.
Third, while the devil is in the details in terms of what will actually be required and how difficult it will be to transition from current practice to the e-filing of corporate returns (and to the IRS's examination of those returns), we regret that the regulations presume a level of uniformity and technological sophistication that does not exist, on the part of taxpayers and perhaps also the IRS. Yes, most business taxpayers use computer programs to help prepare their returns, but preparing the return of a Fortune 500 taxpayer (which could easily exceed 10,000 pages in length) is not as easy as sliding a TaxCut or TurboTax disk into its PC. The programs used range from Excel spreadsheets and PDF files, to off-the-shelf programs, to tremendously expensive and complicated customized programs, to a patchwork of "homebrew" solutions
For example, the project seems to assume that most taxpayers use only one software program to complete their entire return, including schedules and attachments. Taxpayers, however, may use a variety of software and parts of the returns may be outsourced. In these circumstances, converting the pieces into an XML file for e-filing presents very real technical challenges. Viewing the completed file may also be an issue because, thus far, the IRS has not published its "style sheets" for viewing electronic forms.
Like many of us in the private sector, the IRS knows full well the challenges of meeting modernization objectives. Rather than simplifying the preparation of corporate tax returns, the regulations may even hinder tax administration, for example, if the standard attachments that have hereto been filed with the return cannot be transmitted (or received) electronically.
A TEI delegation will meet with the IRS on February 9 to discuss the e-filing mandate. We raise the issue here, however, to point out that many of these issues might well have been addressed if taxpayers had been consulted before the regulations were issued. TEI believes that the initiative should be elective (as is the case in respect of some aspects of the Schedule M-3) until the IRS and taxpayers have time to work through potential hurdles.
e. Circular 230:
In December, the IRS and Treasury Department issued final and proposed regulations relating to Circular 230, which governs the practice of attorneys, certified public accountants, enrolled agents, enrolled actuaries, tax return preparers, and other persons representing clients before the IRS. Section 10.33 of Circular 230 now provides certain "best practices" or "aspirational standards" for rendering tax advice, including "establishing the facts, determining which facts are relevant, evaluating the reasonableness of any assumptions or representations, relating the applicable law ... to the relevant facts, and arriving at a conclusion supported by the law and the facts" and "acting fairly and with integrity in practice before the IRS." The changes to Circular 230 are aimed at enhancing professionalism by emphasizing the importance of aspirational standards.
The new rules modify the standards applicable to practitioners who provide covered opinions concluding that the tax treatment of a federal tax item is at least more likely than not the proper treatment. Similarly, the new rules propose a standard for a "marketed" opinion, i.e., an opinion (including a "more likely than not" opinion), that a practitioner knows, or has reason to know, will be used or referred to by someone other than the practitioner, or someone at his firm, in promoting, marketing, or recommending a "tax shelter" to a taxpayer.
Although the rules appear limited to "covered" (primarily listed and reportable avoidance) transactions--placing everyday tax planning beyond their scope--TEI is concerned that they may adversely affect the ability of in-house tax professionals to efficiently provide or obtain high-quality tax advice.
In many instances, in-house corporate tax professionals have substantial capabilities and seek only limited assistance from outside tax practitioners. For example, tax department personnel may themselves analyze and provide an opinion on a particular transaction and seek only confirmation of their analyses from outside practitioners. In these circumstances, the rules permit the tax adviser to issue a "limited scope" opinion whereby the taxpayer and adviser can agree that the scope of the opinion and the taxpayer's reliance on the opinion for purposes of avoiding penalties is limited to the federal tax issues addressed in the opinion.
The new accuracy related penalty in section 6662A does not apply to any portion of a reportable transaction understatement if the taxpayer demonstrates that it has reasonable cause and acts in good faith. Under Notice 2005-12, a taxpayer does not have reasonable cause and act in good faith unless (1) the facts affecting the transaction are adequately disclosed, (2) the taxpayer's position is or was supported by substantial authority, and (3) the taxpayer reasonably believed that its treatment of the item was more likely than not correct. An opinion of a tax adviser may not be relied upon to establish reasonable cause if the adviser or the opinion is disqualified. An opinion is disqualified if the opinion (1) is based on unreasonable factual or legal assumptions; (2) unreasonably relies on representations from the taxpayer (or any other person); (3) does not identify and consider all relevant facts; or (4) fails to meet any other requirements the Secretary may prescribe.
We are uncertain whether a "limited scope" opinion on reportable transaction issues discussed by the taxpayer with outside advisers will ever satisfy the requirement that the opinion identify "all relevant facts" or not "unreasonably rely on representations of the taxpayer." In nearly all cases involving routine tax advice for a reportable transaction, the taxpayer will be the source of the adviser's information for the facts and issues to be addressed. If the outside adviser relies on the taxpayer to supply the facts, does any opinion in respect of a reportable transaction that has "a significant purpose of tax avoidance" require a full-scope "reliance" opinion in order to afford the taxpayer with penalty protection?
We understand that the IRS and Treasury Department intend to revise Circular 230 to take into account the changes made by American Jobs Creation Act of 2004. We also understand that the principles in Notice 2005-12 will be incorporated in the reportable transaction penalty regulations. We encourage the IRS and Treasury Department to ensure that the provisions defining reasonable belief for purposes of the reasonable cause and good faith relief mesh with the Circular 230 provisions on opinion standards, especially for "limited scope" opinions or for routine tax-planning advice.
d. Enforcement Efforts:
In a January 25, 2005, speech at the University of Southern California Tax Institute, IRS Chief Counsel Donald L. Korb discussed the IRS's use of the economic substance doctrine in litigation. The speech came on the heels of IRS losses in Black & Decker, Coltec, and Castle Habour.
Have these cases led the IRS to consider issuing any formal guidance in this area?
e. Interface with SEC and FASB:
TEI understands that the IRS has been meeting with the Securities and Exchange Commission to discuss ways in which recent corporate governance changes can be used to make audits more efficient. During the liaison meeting, we would appreciate a report on these discussions, as well as whether the IRS anticipates issuing standard information document requests to the field on financial accounting issues.
The Financial Accounting Standards Board is in the process of drafting a statement on uncertain tax positions, which is expected to be released soon. Has the IRS had any discussions with the FASB staff concerning the draft statement? If so, what is the nature of those discussions?
f. De Minimis Fringe Benefits--Private Letter Ruling 200437030:
Our members have expressed concern about the private letter ruling summarized below. Are there any plans to issue more expansive formal guidance on the topic?
Private Letter Ruling 200437030 concludes that a coupon (for an item such as a ham or a turkey) is a cash equivalent fringe benefit. This conclusion appears to hinge primarily on a finding that it is not administratively impracticable to account for the coupon because a value can be determined.
TEI suggests that the ruling misreads the definition of de minimis fringe benefit under section 132(e). The term is defined as a property or service the value of which is so small as to make accounting for it unreasonable or administratively impracticable. Clearly, Congress intended that there be some level of benefit for which employers need not account. To conclude a benefit is not de minimis merely because a value can be assigned runs contrary to legislative intent.
TEI also disagrees with the conclusion that any type of gift certificate is a cash-equivalent fringe benefit. The coupon in this case was clearly identified with a single employee and could only be redeemed for property at a few locations; no cash was returned.
Presumably, the taxpayer in this case could have avoided the employment tax issue by continuing to distribute holiday hams, turkeys, or other gifts in kind. The use of the coupon was simply a more efficient means of achieving the same result. The IRS should reconsider the conclusion that any gift certificate is a cash equivalent fringe benefit and, instead, look to the value and frequency with which that benefit is provided to determine if it is de minimis.
IV. 2004 Act Guidance
a. Kudos and Encomiums:
TEI commends the IRS and Treasury Department for their outreach in respect of guidance under the American Jobs Creation Act of 2004. The new law required the government to issue clarifying rules within a tight timeframe and the collaborative approach helped ensure that the resulting guidance dealt with taxpayers' real-world concerns. We appreciate the efforts made to draw TEI and its members into the process.
b. Tax Shelter Provisions:
The 2004 Act creates a new section 6662A penalty, which carves out certain reportable transactions and creates a stricter accuracy-related penalty. The statute provides for a reasonable cause exception, which requires that the taxpayer must establish it reasonably believed its treatment of the item was more likely than not the proper treatment. To meet this reasonable belief standard, a taxpayer may not rely on a disqualified opinion or the opinion of a disqualified tax adviser.
The effective date of section 6662A is October 22, 2004, and the rules relating to reasonable belief are based on the facts and law existing at the time the return is filed. If a taxpayer filed a return prior to the Act's effective date and relied on an opinion of an adviser who later became disqualified by operation of the new rules, must the taxpayer obtain another opinion from a different adviser? Alternatively, will that opinion meet the "reasonable belief' standard when it was obtained after the return was filed?
V. Status Reports
a. Executive Audits:
In August, LMSB Commissioner Deborah M. Nolan issued instructions to the field concerning the inspection of tax returns of corporate officers and key executives. The August 23, 2004, memorandum states that the team should "requisition the returns of corporate officer/key executives using the ERCS/AIMS system during the planning stage of the examination." Regrettably, there is still some confusion in the field concerning the role of the tax department in obtaining a copy of the executive returns. Some field personnel apparently believe that the tax department may be requested to obtain the returns from the executives. We believe that the memorandum should be clarified to specifically provide that the personal returns of executives should generally not be obtained by contacting the corporate tax department.
b. Withholding on Stock Options:
In a Field Directive dated March 14, 2003, IRS examiners were instructed, solely for penalty purposes, not to challenge the timeliness of employment and withholding tax deposits exceeding $100,000 that arise from the exercise of the stock options, as long as the deposits are made within one day of the settlement date of the option. In comments filed in June 2003, TEI urged that the IRS and Treasury Department issue rules of administrative convenience for FICA, FUTA, and income tax withholding related to NQSO exercises that are similar to those set forth in Notice 2001_73. Most NQSO plans are administered through stock brokers and the cash for the exercise price and employment and withholding taxes is not available to the employer on the date of exercise. We also suggest that employers be permitted to make the requisite tax deposits within a reasonable period of time following the settlement date. A reasonable period of time for making the deposit following the employer's receipt of notice from the broker that an option has been exercised would, at a minimum, be no earlier than the deposit date for the employer's next regularly scheduled payroll processing period for "cash" wages.
Is further guidance anticipated in this area?
c. Tax Accrual Workpapers:
Has LMSB seen an increase in agents' requests for tax accrual workpapers? Is any consideration being given to broadening the circumstances in which an agent may request the workpapers?
d. Cost-Sharing Regulations:
Please provide a report on the status of the cost-sharing regulations. Will they be issued before the services regulations become final? Will they be issued in temporary or proposed form?
e. Advance Pricing Agreements:
The IRS has scheduled hearings on the APA program for February 1 and February 22. TEI is scheduled to testify at the February 22 hearing. Have the comments received thus far identified any potential changes to the program?
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|Date:||Jan 1, 2005|
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